Securities lawyers had a “first time in forever” moment on March 25, when the U.S. Securities and Exchange Commission (SEC) voted to approve landmark reforms to its Regulation A, the so-called (and until now little-used) “small offering exemption.” “Regulation A+,” as it has come to be widely known, ushers in a new type of quasi-public offering that breaks the classic dichotomy of registered public offering or private placement. Regulation A+ is a novel opportunity for small businesses, including peer-to-peer lending platforms, to raise capital from both accredited and non-accredited investors without becoming fully registered public companies.
Regulation A+ is required by Section 401 of the Jumpstart Our Business Startups Act of 2012 (JOBS Act), and will be effective 60 days following publication of the final rules in the Federal Register. We estimate the effective date of Regulation A+ to therefore come in mid-June. The approval of Regulation A+ leaves public crowdfunding (Title III) as the only major JOBS Act provision awaiting final rulemaking.
Regulation A currently exempts from SEC registration offerings of securities of up to $5 million within a 12-month period, but requires that an offering circular be filed and approved with the SEC and, importantly, clearance by each state where the offering is made. In contrast, Regulation A+ allows for state securities law preemption in “Tier 2” transactions, as described in more detail below, and establishes a short-form annual, semiannual and current reporting system for issuers that complete a Tier 2 transaction (think of it as 10-K/10-Q/8-K “lite”).
According to the final rules, the SEC aimed to “modernize the Regulation A filing process for all offerings, align practice in certain areas with prevailing practice for registered offerings, create additional flexibility for issuers in the offering process, and establish an ongoing reporting regime for Regulation A issuers.” SEC Chair Mary Jo White added, “These new rules provide an effective, workable path to raising capital that also provides strong investor protections. It is important for the Commission to continue to look for ways that our rules can facilitate capital-raising by smaller companies.”
The new Regulation A+ amends the old Regulation A and breaks it into two tiers, Tier 1 and Tier 2. The highlights of each tier are set forth in the table below:
|Feature||Tier 1||Tier 2|
|Maximum offering amount||$20 million in any 12-month period (up from the proposed $5 million)||$50 million in any 12-month period|
|Maximum Selling Shareholders||$6 million of the $20 million that are affiliates||$15 million of the $50 million that are affiliates|
|State Securities Laws||Subject to state-by-state review||Not subject to state review (full preemption)|
|2,000 Stockholder “Forced Public” Rule (Section 12(g))||Tier 1 shares count towards forced public cap of 2,000 maximum holders/500 maximum non-accredited (must also have $10 million of total assets to be “forced public”)||Tier 2 shares are disregarded provided the issuer:
|Investment Maximum||None||No maximum for accredited investors; non-accredited investors limited to no more than 10% of greater of annual income or net worth|
|Testing the Waters, Confidential Submissions||Allowed||Allowed|
|Offering Circular||Form 1-A, filed publicly on EDGAR at least 21 days prior to solicitation; SEC clearance required before sales can be made||Same as Tier 1|
|Exit, Annual, Semiannual and Current Event Reports||1-Z exit report 30 days after termination||
|Financial Statements||Two years, audit not required||Two years, audit required|
Regulation A+ is limited to companies organized in and with their principal place of business in the United States or Canada. The exemption would not be available to companies that:
- Are already public and certain investment companies;
- Have no specific business plan or purpose or have indicated their business plan is to engage in a merger or acquisition with an unidentified company (e.g., SPACs);
- Are seeking to offer and sell asset-backed securities or fractional undivided interests in oil, gas or other mineral rights;
- Have been subject to certain SEC disciplinary orders within the past five years;
- Have not filed ongoing reports required by the rules during the preceding two years; or
- Are disqualified under the “bad actor” disqualification rules (similar to the Rule 506(d) disqualification for private placements).
Also of Note With Regulation A+
- Similar to the IPO on-ramp (Title I of the JOBS Act), the rules allow for:
- both equity and debt transactions;
- “Testing the Waters” pre-filing investor meetings; and
- confidential submission of the offering circular prior to public filing.
- For the first time, Canadian companies and U.S. companies are on an equal disclosure footing.
- All filings must be made on the EDGAR electronic filing system.
- Delayed and continuous offerings (otherwise known as “shelf” offerings) are permitted provided the issuer is current in its Tier 2 public information requirements.
Unrestricted vs. Listed: the Liquidity Box
Securities issued under Regulation A+ are not restricted from resale. This is a major advantage to securities issued under the private placement rules (most notably Rule 506 of Regulation D) and the proposed Title III crowdfunding rules, each of which apply restrictions on resales. The resale safe harbor under Rule 144 for Rule 506 securities for a non-public company is generally one year.
So with the ability to sell to non-accredited investors freely tradable securities, some issuers will surely be tempted to use Regulation A+ over conducting a limited private placement. Remember, though, that “unrestricted” does not mean “liquid.” Market listings on the NYSE and Nasdaq are for fully registered, reporting companies. Issuers considering a Regulation A+ offering will have to balance a potential liquidity discount of an unlisted but freely tradable Regulation A+ security against a fully listed registered security where non-accredited investors do not have investment caps. Of course, one could argue that a fully registered offering will incur more compliance and disclosure costs that counter the convenience and liquidity of a listing. One possible bridge here is for unlisted alternative trading systems, such as SecondMarket, to develop a more “liquid” unlisted market, and for new initiatives, such as venture exchanges, to gain traction.
In the peer-to-peer market where a robust debt market already exists, Regulation A+ might just be the fix to shave costs and ease investment hurdles.
Compared to an IPO or Private Placement: Where Do We Go From Here?
Issuers of securities now have more choices when it comes to raising capital. Regulation A+ represents a good half step towards an IPO but does not carry the cost and compliance burden associated with becoming a fully-reporting and listed company. The Regulation A+ disclosure forms do not call for disclosure that is as extensive as their corresponding public reporting forms, including with respect to financial statements and compensation disclosure. Moreover, Regulation A+ issuers will not need to comply with the Sarbanes-Oxley Act (including the costly auditor attestation requirement), Securities Exchange Act Section 16, Regulation FD, and SEC and stock exchange board independence and board committee requirements.
Compared to Regulation D private placements, Regulation A+ presents several advantages:
- an opportunity to access non-accredited investors (which the SEC estimates is 93% of the U.S. population);
- securities will not be restricted from transfer (but will not be listed on an exchange);
- investors will have greater information and ongoing updated information concerning the issuer;
- state securities blue sky preemption; and
- investment caps only apply to non-accredited investors.
Regulation D, specifically Rule 506 of Regulation D, is still the fastest way to issue securities in unlimited quantities to an unlimited number of accredited investors with no SEC filing or disclosure obligation. And with the implementation of JOBS Act Title II, transactions can be advertised. However, state “notice filing” filing fees add up for frequent issuers (like peer-to-peer lenders) and many would like to access the non-accredited market. The SEC still has yet to act on amendments to Regulation D which it proposed in 2013 which would mandate filing Form D at least 15 days in advance of solicitation and impose a one-year penalty for failure to do so. Also, the SEC has stated that this year it may review and modify the definition of “accredited investor” to raise the income and net worth thresholds (currently an income of $200,000 for an individual or $300,000 for a married couple, or a net worth of $1 million).
One thing that is clear is that Regulation A+ has been redesigned to be more than the “small offering exemption” it once was. Issuers should seek advice to review their capital raising alternatives and choose the regimen that suits them best. Layer into this the potentially forthcoming public crowdfunding rules, and the scene gets very complicated. But, as the saying goes, “When you get to the fork in the road, take it!”